In 2019, the world was trying to understand the reasons for the IPO shortage among FinTech companies and the potential solutions to it. Here we are, merely two years later and FinTech companies are breaking one record after another. In 2020, a record of 8 US – based FinTech companies went public, and 2021 has already exceeded that number – in the US alone, with significant ones being Robinhood, Marqeta and Coinbase in the US, and Wise in the UK. So now the world is looking for answers as to why the FinTech IPO market is on fire. Here, rather than answering that question, we are going to discuss the most appropriate way for FinTechs to go public, but you can read James Ledbetter’s thoughts on it here – spoiler alert: it’s not just because there are more FinTech companies now than in 2019.
In the case of a private FinTech company with an ambition is to go public, picking the right time to do so is one of the most important decisions. But it doesn’t stop there. With the variety of different options available nowadays, the second you decide to go public; you’re immediately faced with another choice that you’ll need to make: which route should you choose? This is a fairly new question and prior to the Slack and Spotify direct listings, it hadn’t really come up: if you decided to go public, you hired investment banks and followed the traditional IPO listing process, including a significant capital raise. Now, instead, FinTechs have three different options to choose from: take the traditional IPO route, get a direct listing or merge with a special purpose acquisition company (SPAC). Some will say that the direct listing route is automatically the best fit for technology companies, especially after seeing the successes of those who have gone before them – but is that really the case? If not, then how do you know which route to take? To know this, first you need to understand what the three options really mean.
The traditional IPO
In a traditional IPO process, the company creates and sells new shares to investors in order to raise money as a result. These new shares are underwritten by an intermediary— in this process, financial specialists buy the new shares from the company, then sell them via their distribution network (you can read more about underwriters here). These underwriters work closely with the company throughout the process, including deciding the initial offer price for the shares, assisting with regulatory requirements, helping promote and sell the shares to investors, or taking part in roadshows with the company in order to raise interest in the soon-to-be available public shares. These underwriters are paid a commission for their work. With all that work from the underwriters, traditional IPOs are usually more costly than direct listings, however, with the pre-negotiated share price and because of the underwriting process (underwriters will usually buy the unsold shares in the event that there is undersubscription), the outcome is also more certain, and the initial volatility of the shares is usually less.
While many tech companies choose the direct listing route instead, traditional IPOs are here to stay: that’s how Airbnb, DoorDash, Bumble and Brokerage giant Robinhood have all made their way to Wall Street in recent months. The “benefits of a classical IPO include extensive test-the-water meetings and a roadshow,” says Eric Richman, CEO at the publicly traded biotech company Gain Therapeutics (GANX). The traditional route, however, may not be the one for you—and luckily, companies now have two other choices.
A direct listing is different from a traditional IPO in many ways, and it is considered a simpler and, as the name suggests, a more direct route to market. In this route, the company goes public by offering existing shares directly to the public: there are no new shares created, it is the already existing shareholders (founders, investors, employees) who sell their shares directly to the public. There are no underwriters, and the shares are priced at the true market price compared to the traditional route. Of course, this also means that since the price is subject to supply and demand, there is more volatility and trading is less predictable. If, on the day of the listing no existing shareholders want to sell their shares, no transactions will occur, which can have a significant effect on the market price.
Coindesk claims that direct listings—such as the one Coinbase underwent earlier this year—are “curiously suited to a crypto company”. While it is true that with the simpler process and fewer costs associated with going public, direct listing is worth considering for companies that want to focus more on expanding and enhancing the business, and also that the price being determined by the market rather than a group of investors behind closed doors is more in line with the openness and transparency of the crypto world, it is important to keep in mind that the current popularity of direct listings does not mean it is an overall better option, and definitely not a one-size-fits-all solution. Whether a direct listing is the way for you to go depends on a lot of factors.
First of all, without the support of underwriters, your company needs to be attractive enough for the market in itself, and it needs to be of a sufficient maturity to go through the process without the close support of underwriters. While you can still engage bankers and financial advisors to help you, the connection is not as strong when compared to the traditional IPO, and you need to be prepared to handle a lot of things on your own.
If your company has a strong, well-established brand identity, a relatively easy-to-understand business model, is not in need of substantial additional capital, and if you are confident of immediate name recognition from potential investors and have a great CFO in your team—remember, you won’t have the same amount of support in the process as you’d have from an underwritten traditional IPO—then by all means, a direct listing probably would suit you better. It worked very well for Spotify, Slack, Coinbase and a lot of other companies, all of which already had strong reputations before they went public. But don’t do it simply because it is the trend nowadays.
The SPAC route is probably the least known of the three options. SPACs, also known as “blank-check” companies are companies with no commercial operations that are formed strictly for the purpose of raising capital through an IPO and then acquiring or merging with an existing company. When a SPAC is formed, the M&A target company is not usually identified beforehand—hence the name “blank-check” —but the management team (who in most cases are also investors in the SPAC) usually has substantial expertise and experience within the sector in which the target is to be acquired. In the case of a SPAC most of the listing proceeds are deposited into a blocked account and are later used for the M&A transaction. In the event that there is no deal within a set time period, the funds are returned to the investors, the company is then delisted and usually liquidated. While SPACs are mainly a US trend, there has been demand on EU markets as well, and starting from 1 February 2021, SPACs can be listed on the Main Market of Nasdaq’s Nordic Exchanges.
Sale to a SPAC can be an option for earlier-stage companies as this approach offers them the ability to go public without going through the traditional IPO process. It also makes the share price more predictable when the company does go public since the acquisition price is negotiated with the SPAC, as opposed to, for example, being determined by the market as in case of direct listings. However, because the business models are not as mature in the case of these early—stage companies, and they have lower revenue, sometimes accompanied by significant losses, there’s a risk of missing projections, causing the stock to crash when public. So, while a SPAC makes it easier for these companies to go public, it will not necessarily make it easier for them to successfully operate as a public one.
On the other hand, the SPAC approach can potentially prove to be a great option for companies that have more complex business models—which a lot of FinTechs do—because the M&A process for an already listed entity is not accompanied by the same restrictions that apply to IPOs regarding forward guidance towards investors, it gives these companies a better opportunity to shape the narrative. However, while this all sounds great in theory, the strategy has not been as well-tested for tech companies as it has regarding the first two options. So, for those who prefer the known to the unknown, this is probably not the best choice.
So which option is the best fit for FinTechs? The truth is that all of them are viable options. There is no ultimate right path, it will always depend on the company itself, and you need to decide on which solution makes most sense for your particular company.
Nevertheless, instead of being paralyzed by the variety of options, look on them as a welcome development: instead of trying to fit your company into one strict path, you get to look at the pros and cons of multiple solutions, and pick the one that fits your company to a T. And ultimately there is one thing to remember: whichever path you choose, however great it is, it’s only the right path if you are prepared to become, and operate as, a public company in the first place. If you want to know how to handle the challenges of being a public company before you go public, stay tuned, we’ll have a treat for you soon.